Doctors Losing Money through Poor Tax Planning

Medical tax accountants often set up service trust arrangements for doctors. But many doctors miss out on tax savings due to how funds are managed in these arrangements. Our medical tax experts can find out if you have been paying too much tax as a doctor

Medical practitioners commonly put in long hours to earn a living. If you are a doctor, you are likely to be a high earner. But the unique skill-set and high-wealth status of a medical practitioner does not protect them from losing money. Neither does it hide them from tax audits.

Do you use a service trust arrangement?

Many doctors operate as sole traders. They are specialists who provide their services to patients through hospitals, clinics, and in private practice. If this is your situation as a medical practitioner, then you are likely to be managing your doctor’s tax deductions and overall tax strategy through a service trust arrangement.

But is this structure managing your funds in such a way that you are getting the most out of your Australian trust tax rate? Many doctors are actually paying unnecessary tax simply as result of poor tax planning.

Here is an example of how a medical practitioner might handle their doctor’s tax deductions through a service arrangement with a trust:

Dr Wise is a paediatrician. He operates as a sole trader. His work takes him to both private and public hospitals in his area, while he also looks after patients at a medical centre. He has to work with numerous other medical professionals and staff, and so he hires staff and has a number of other medical and clerical expenses. He also has to pay rent, insurance, and other pharmaceutical expenses.

On the advice of his medical tax accountant, he sets up the Wise Family Trust. This trust is also set up so that his wife, Mrs Wise, and his grandparents, Mr and Mrs Pay can benefit from money made by the trust.

Dr Wise takes money from his income as a sole trader and puts it into the trust on a regular basis. This money covers the cost of some expenses for his work as a paediatrician - staff hire, clerical and administrative services, and rent.

The trust pays out these expenses. For example, the trust pays the medical professionals and clerical staff on his payroll. The trust also charges him service charges and fees in exchange for managing these expenses.

Dr Wise now needs to cover the cost of the service fees and charges he is paying to the trust. He does so by adding a mark-up to the paediatric services he offers at the hospitals and the medical centre.

How does a service trust arrangement benefit doctors?

There are typically two reasons for a medical tax accountant to suggest creating a trust to handle expenses:

It allows the doctors to split their income for tax purposes between their business and the stakeholders of the trust.

It allows doctors to quarantine certain assets outside of their business so that these assets do not come under threat if the doctor faces litigation. For example, Dr Wise can purchase passive investments through the Wise Family Trust, rather than using his sole-trader business, so that he does not risk losing these investments should his business face litigation or an insurance claim.

As a doctor who operates with a service trust arrangement, you can also claim a deduction for the service fees and charges you pay to the trust as expenditure incurred in the conduct of your business.

What is the risk of operating through a service trust arrangement?

Since the service fees and charges paid to the trust are tax deductible, there have been some concerns about the size of the mark-up doctors are charging their patients in order to cover these fees.

For example,

The trust operated by Dr Wise, Mrs Wise, and his grandparents Mr and Mrs Pay charges Dr Wise $5,000 a month so that the Wise Family Trust can perform all the necessary transactions to pay for Dr Wise’ staff, rent, etc.

To recoup this expense, Dr Wise adds a 5% mark-up to all his services as a paediatrician.

The tax office, especially in a landscape of increased ATO tax scrutiny, wants to ensure that you have an "objective commercial explanation" for your service charges and fees and the resultant mark-up, since in effect the fees and charges you are trying to cover by charging more for your doctor’s services are being paid to an entity of which you are a joint beneficiary, or to which you are beneficially connected.

How could I be losing money through my service trust arrangement?

It’s a matter of missed opportunity.

If you are a medical professional, then a reliable medical tax accountant will ensure that your mark-up and the service charges and fees are well-documented and explicable. This can help you mitigate the risk or the consequences of an ATO tax audit.

However, many tax accountants lack the acumen of experienced virtual CFOs and business advisors who can not only limit the risk of a tax audit, but also reduce your tax payments.

Can Dr Wise move more of his income into the Wise Family Trust and make a significant saving under the lower trust tax rate?

This is the benefit of a service trust agreement that many medical practitioners and their tax accountants have not considered. These doctors wind up losing money by paying more tax than they should.

If you are a doctor, then it is important to consider how much of your income, expenses, and profit can be held by the beneficiaries of the trust in order to attract a lower trust tax rate. Far too many doctors are enduring a high personal income tax rate on far too much of their income. By considering how you can manage moving more of your income into your trust and also wisely manage the mark-ups you charge to cover the trust’s service charges and fees, you are giving yourself the opportunity to save potentially thousands of dollars a year in tax payments.

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